Eonia seen staying below ECB rate

Banks' demand for European Central Bank cash at a tender on Tuesday was seen as high enough to keep overnight borrowing costs below the bank's benchmark rate in the short term as excess liquidity remained ample. Banks took 119 billion euros ($169 billion) in the ECB's weekly refinancing operation, roughly in line with expectations and 5 billion euros below expiring amounts.
That means excess liquidity is likely to remain close to current levels over the next week - at about 50 billion euros, according to Reuters calculations, compared with 60 billion euros at the end of the last reserve period, its highest since early February. "Excess liquidity for the coming week should be around 40 billion, which is lower than what we've had over the past week at 50 billion, but higher than in the first half of the last reserve period," said Elaine Lin, strategist at Morgan Stanley. "So I expect Eonia to trade 20-25 basis points below the refi rate (of 1.25 percent) or if possible even 30 bps lower from now until next Tuesday."
The Eonia overnight rate has fixed gradually higher over the past five sessions as banks frontloaded on liquidity at the start of the reserve period last week. It settled at 1.129 percent on Monday, from Friday's 1.110 percent. As the frontloading process continues, Eonia may continue to rise for one or more sessions before falling. If it did shoot above the ECB rate, UniCredit strategist Elia Lattuga said that unlike in the previous reserve period - which was also marked by several bank holidays - Eonia would not stay there for too long.
Banks would find ECB cash cheaper than in the market, thus pushing excess liquidity levels up and easing pressure on Eonia. Short sterling futures recovered morning losses caused by higher-than-expected inflation data after central bank Governor Mervyn King warned that reacting too quickly to rising prices could harm the economy. The next BoE interest rate hike is priced in by the market in December or January.